77951400 Interview Peter Brandt

7/31/2019 77951400 Interview Peter Brandt

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Interview With a Trading Legend

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Peter Brandt, author ofDiary of a Professional CommodityTrader, may be the greatest trader youvenever heard of. We consider him a legend thanks to his stunning performance a thirty-year trackrecord (audited) of 41.6% compound returns.

Just as impressive is the manner in which those returns were achieved. Over a multi-decade span,Peters best year topped 600 percent and yet his worst losing year (of which there were only four)was a single-digit decline of less than 6 percent! (How did he do it? Thats one of the questions hellanswer.)

Peters history is intertwined with the futures markets.He was one of the early hedgers for major commercialoperations an early adopter of Schabacker,Edwards and Magee in commodity trading and evena trader for the legendary Commodities Corp., thebirthplace of Market Wizards like Marcus, Kovner,

Seykota and Jones.

In addition to the above, Peter is relaxed, down toearth, and an all-around great guy. Mike McD and Ihad the privilege of hanging out with him over a snowyweekend in Reno/Tahoe, and conducting the followinginterview.

JS

Part I: Introduction to Peter Brandt 2

Part II: Mental Milestones 7

Part III: Staying in the Game 12

Part IV: Maintaining the Center 16

Part V: The Toughest Trade 19

Part VI: Commodities Corp 22

Part VII: Debunking the Sharpe Ratio 27

Part VIII: Peter Interviews Jack and Mike 31

Copyright 2011 Mercenary Trader - All Rights Reserved
http://www.mercenarytrader.com/2011/01/weekender-diary-of-a-professional-commodity-trader-review/


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Part I: Introduction to Peter Brandt

In part I of this multi-part Mercenary Vault series, youll find out all about how Peter got started intrading how he handled his early going bust experiences and the first big move (in the SwissFranc) that really put him in business as a trader.

JACK SPARROW: So, just to get things started, this is the Mercenary Trader interview with PeterBrandt, author of Diary of a Professional Commodity Trader. Why dont you start off by telling us a littlebit about how you got interested in trading, and just how your journey in markets began.

PETER BRANDT: Sure. I lived in Chicago we moved to Chicago in 1972, right out of college. I wentto work for a big advertising agency, living in a suburb just north of Chicago Evanston, Illinois.

I had a young son who played hockey. And so it ended up that a father of another hockey player livingjust down the street from us was a soybean trader. And I really liked the man, he was a good guy.Hed invite me down to lunch, Come on down to the Board of Trade and have lunch with me.

And so I would visit him, and then there was a Board of Trade members dining room, whichoverlooked the trading floor. At the time it overlooked the Wheat pit and he took me on the floor andI was captivated. These guys are yelling and screaming, shouting matches, pushing people Ithought This is crazy.

But I was really entrepreneurial. I had earned my own way in life since I was quite young. I hadparents who split up, and I was raised by my mom and we were a welfare family so from the time Iwas young I was figuring out ways to make money. And the Chicago Board of Trade was captivating.These floor trader guys had freedom, they didnt report to anybody, they made their own way in lifethey knew how they did at the end of every day that to me was ideal, and it was a question of justHow do you break into that business?

JACK SPARROW: So how did you actually break into the business?

PETER BRANDT: I just went literally door to door at the Board of Trade asking people How do I getinto this business? And it ended up that Continental Grain, owned by a European family, which at thetime was the second largest grain exporter in the world next to Cargill, were starting to look to docommercial business with individual farmers and grain users: food companies, smaller exporters, andso on.

And so they wanted to do more on the floor than just their own trading, and they were looking forcustomers men. You know, people who could learn the grain business and bring in other customerswho could also do the grain business. They had all the memberships so they figured they might aswell take the commission, and work the commission side of the business.

So I went to work for Conti, the futures market division of Continental Grain, and at the time I think Iwas making $28,000 a year in advertising. And so I went to the president of the advertising agencyand said Look, Im doing this. Im going down to the Board of Trade, and Im going to try it out. If Iblow it if I screw up can I come back in a year and get my job back at a fifty percent raise. And hesaid yes!

And so I had the license to fly. I went to the Board of Trade, started learning the business, learnedthe grain business primarily a little bit of livestock and my big client in advertising was theCampbell Soup Company (although I also worked on the McDonalds account).



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I knew the president of Campbells really well. He was kind of a rebel guy, had been president ofCampbells Canada and now was heading Campbells USA, John Morris, and so I went to him andsaid: Why dont you send a purchasing guy out to Chicago and work with me to determine whetherCampbells ought to be using futures? Which they did. A guy came out for a few months.

And the premise was we would go back to the top management team and tell them the truth either

theres nothing here for you (in respect to futures) or there is something here. And it was just a layup.Campbells use of futures was just a no-brainer.

JACK SPARROW: What made it a layup? Why was it such a no-brainer?

PETER BRANDT: Oh, because they used cocoa, they used soybean oil, they used sugar althoughsugar is funny, the sugar #11 contract is all the sugar nobody has bought under a long-termagreement. Its the non-wanted sugar in the world, and thats why its so crazy. Most sugar in the worldtrades under long-term agreements. Its called contract sugar. And then you have the #12 Sugarcontract in the US which is domestically protected sugar. The #11 sugar is basically the sugar thatsnot spoken for. Thats why it vacillates so much, because it only represents about 10 percent of theworlds sugar production. But that portion of the worlds production can disappear quickly. Or it can glut

quickly.

So Campbell Soup used sugar, they used beef, they grew 150 million chickens a year from scratchthey contracted with corn growers and bought soybean meal for their grow-outs and we ended upreally working out some fascinating hedges for them. For example we worked out hedges on the feedratio, the cost to produce cattle, chicken or pork per pound. Wed look at the price of the live pig orcattle on the hoof compared to the different cuts they were using, and so they might buy forward onsome of their needs, or they might sell short against their inventory depending on what the spreadswere. Or they might sell their chicken production to the Board as iced broilers if it made economicsense to go out in the free market and buy their chickens. So we really got creative in how CampbellSoup used the futures. And they became a big commission client of Continental Grain.

JACK SPARROW: When did the focus shift to your own personal trading?

PETER BRANDT: I knew then that I wanted to start trading for myself. So I started dabbling a little bit,accumulating a little bit of money, starting in 78, doing some trades and I didnt really know what Iwas doing.

One of the first trades I did came from my friend in Evanston who was the bean trader. I was justlearning the business, and he had told me he was really bullish on soybeans: Peter, Im REALLYbullish on these beans.

And so I watched them for a few days I think they were around $5.50 or so and Id saved up a fewthousand dollars to speculate. And they crept up like ten cents, and so I bought a contract, and theywent up like five more cents and then they went down twenty cents.

And so I got out with my loss, and eventually saw John again and said: John, so what about thosebeans? And he said Yeah, was that a magnificent move or what?

JACK SPARROW (laughing): Oh no

PETER BRANDT: Yeah, and I said What are you talking about? And so it ends up that John is ascalper. He never takes a position home at night. He trades the beans for half a cent to a penny, andhe had such a conviction on beans that he had a position he was willing to carry for three or four days.Well I find this out after the fact. He takes ten cents out of the bean market, which for him is a giganticmove, and I wasnt even thinking that way!



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And that was a good lesson. Traders at the Board of Trade would constantly say they were bullish orbearish, and it was a good lesson that the words bullish or bearish did not mean anything. I wouldhave to ask, Whats your timeframe? How long do you hold trades? How much money are youlooking for in a trade? Where are you wrong what will tell you that youre wrong? Why are you bullishor bearish, what do you know?

And so I learned really early on that bullish or bearish didnt mean squat.

JACK SPARROW: So was that your going bust experience? Or did you have a going bustexperience early on, as so many professional traders do?

PETER BRANDT: Sort of, but I went bust in little bits. You know, break open the cookie jar, take two orthree thousand bucks out, and trade until I was forced to just trade oats!

JACK SPARROW (laughing): So you kept getting bumped down the ladder on contract margin.

PETER BRANDT: I did. But then Id build up a little bit, you know, put some money away fromCampbell Soup I also had some money from other customers that came in. One of the things thathelped was that I had the nerve to approach Homestake Mining in South Dakota. I knew nothing aboutgold, and they didnt do any hedging. But I went and pitched them and they ended up hedging somegold with me. And so they became a gold client. And again, I know nothing about gold. But I was theguy that went and pitched their business.

JACK SPARROW: This was before hedging was a common practice.

PETER BRANDT: Right, nobody hedged. Except for grain merchandizers, companies didnt hedge.The tax implications of corporate hedging hadnt been clarified most commodity-connectedcompanies just didnt do any hedging.

But I picked up a few valuable clients. I ended up getting another customer that just traded tons ofcopper a giant copper user. They made paint for the Navy. You know the gray paint? The paint used

on Navy ships had a very large copper content. And thats what kept the metal from rusting. All thatpaint that they put on ships contains something like 15 percent copper. So the company was a hugecopper user.

And so I had those three clients and that was mainly it. And I would save a couple thousand and Iwould trade it. I didnt know what I was doing. I was listening to different people with different ideas,and one guy even had this plastic thing he used to identify cycles. I tried many approaches such ascycles and seasonals point and figure charts fundamentals I didnt know what I was doing,and I kept losing money.

To answer your original question, yes, I went broke, but I went broke many times in little amounts. Iwould save up five grand, save up ten grand, blow it. And I just constantly was losing, not knowingwhat to do next.

MIKE McDERMOTT:A lot of people would have given up at that point. What made you convinced thatyou could learn this?

PETER BRANDT: I was in the business and I knew I was going to be there. The commission side ofthe business was covering my expenses, and I was not risking huge amounts in the trading account. Ayear had passed and I had stayed I had come to the point where I was making a lot more than I wasmaking in advertising so I was making a fairly good living. This was 1978, and I was making sixty orsixty-five thousand dollars a year, which was a lot of money back then.

JACK SPARROW: So you could basically fund your trading experiments.



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PETER BRANDT: I could fund the losses, but I still had expenses. I had bought a home, I had a familyto support, and I even bought a BMW the worst car Ive ever owned, Ill never own German again.

MIKE McDERMOTT (laughing): Ouch, dont say that.

JACK SPARROW: What led to the breakthrough?

PETER BRANDT: Well I met this guy who said, I trade these patterns. I buy these chart books eachweek and I draw these lines and look for geometric patterns. You ought to go down to the Board ofTrade bookstore and buy this book by Robert Edwards and John Magee. Buy the book and read it.

Which I did the book had a yellow and blue cover. And so I started reading this book, and I felt likeOkay, Im at home now. I understand this. I can do this. It just made sense to me. It was clear, itwasnt mechanical because at the time people were starting to play with mechanical approaches

JACK SPARROW:And again this was around 1978?

PETER BRANDT: Yeah, 78 or 79 and so I consumed this book, gathered some more money, andfigured I really liked this approach, and I could trade the approach without going bust again. But I

wanted to trade the approach with the proper amount of capital. So I accumulated a pretty goodamount to start with compared to previous attempts when I would fund an account with only a fewthousand dollars and then lose the money. I decided I would put a better chunk of change togetherso that I could actually hold a position and not get knocked out, and I was going to try and trade it theright way.

So I cant remember the exact amount, $20,000 I think it was. And I started to make a little money.Lose a little, make a little and I started to make enough that I felt comfortable. Then it was I justhave to make a decision to do this. I cant be a customers guy and a trader.

And so I left Continental Grain and went off on my own. I still kept a relationship with Campbell Soupto cover expenses, but started trading. And it went well. I made money the first year, made a lot of

money the second year and so my account was growing, but I didnt feel like Ive arrived, that I hadenough where I could say Im REALLY a trader. Im still kind of hanging on by my fingernails. But myaccount was growing.

And then something happened in the currency markets in 1982 that changed the game for me.Foreign currencies were trading at the International Monetary Market divison of the ChicagoMercantile Exchange. And the European currencies set up in a way that just sang a song for mebased on the charts. And I felt so strongly, that this is itthe time to bet the farm.

And it was Wednesday, the day before Thanksgiving Thursday was Thanksgiving, Friday themarkets were closed in the U.S., Saturday and Sunday the markets were closed. And on Wednesdaythe Swiss Franc broke out.

MIKE McDERMOTT: The day before Thanksgiving.

PETER BRANDT: Yes, the day before Thanksgiving. And I bought ten contracts, which for me was alot. That was equal to $1,250,000 Swiss francs, which for me at the time was a huge position. I boughtlate in the day when the market was already up about 50 points the market ended up closingsomething like 70 points higher.

And I called London on Thursday, and the currency traders there just didnt care what had happenedon Wednesday in Chicago. It was Who cares what the IMM did. The value of the Swiss Franc didcreep higher in London on Thursday, but was still way below where the IMM had finished onWednesday. I talked a banker into selling me ten contracts of deutschemarks on that ThanksgivingThursday.



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over a large number of Ns, whats the chance that Im going to be wrong, just in terms of randomdistribution, 8 times in a row, 10 times in a row, 15 times out of 20, and so on.

JACK SPARROW: Trying to find the extreme statistical outlier for losses.

PETER BRANDT: Right. I knew the answer would resemble a bell curve, but I wanted to know what

things looked like to the far right and left of the hump. And the professor created a model based onprobablities involved in rolling a single dice. And he said, A dice role of the numbers one or four areyour winners, the other numbers are your losers. Now lets just go through a very long series of dicerolls and see what happens.

The professor ran a computer program and produced a distribution table and bell curves that gave mea considerable amount of insight into the random distribution of winners and losers given variouswin/loss ratios. I began to realize that risking 4 or 5 percent of capital in a program that was right on35% over an extended number of trades, but with a high probability of being wrong 80% or 90% of thetime over shorter numbers of trades, was a recipe for ruin.

And thats how I came to the conclusion that I should generally not risk any more than 1 percent of

capital because I realized, based on the mathematical probabilities, that it was inevitable if I riskedeven 3 percent of my capital per trade each time, I could seriously harm my capital base to the point Iwould then have to change the way I traded the markets. And thats exactly what I didnt want tohappen.

That starting point on risk led me through the whole process of learning leverage, and how leverage isbuilt. I think back on a lot of the stuff I had to learn and its often because I took a hit on a trade andrealized I hadnt thought about that, or That was not a part of the equation I thought was right. Andso I was continually forced to go back and rethink an aspect of the trading process all over again.

Of the new people who start trading today so many have no clue of the learning curve. I mean this isa steep mountain. And youve got to be willing to really, really go through a lot of learning and youlearn by mistakes. You learn by getting sliced up by the markets. You dont come in, have a hot three

months, and say, Man, Ive got it figured out. You learn when when you realize, Oh, Ive been wrong8 trades in a row, and now Im getting another signal, or, Ive just lost 20 or 30 cents in a 10 centtrading range, and so on.

And I just went through these situations again and again, and these were the challenges of the gamefor me.

JACK SPARROW: So how long was that period between when you first discovered Edwards andMagee and realized, This is the approachI like, to the Swiss Franc breakout trade that establishedyou as a trader. How long was that interim?

PETER BRANDT: Maybe two-and-a-half years. But then even after that, I had a lot to learn. Anyapproach you take is complicated. So it was 1982, and there was the big move in the currencies thatlaunched me but then it was just a process of learning more about the markets, myself and myapproach, making even more mistakes, feeling better about it, going through drawdowns.

You go through a big drawdown, and your first temptation is Ive got to change something. Andactually I think the best response is not that something has to be changed, although that may also bethe case, but something has to be learned.

JACK SPARROW: A teaching opportunity.

PETER BRANDT: Right. Trading is an ongoing education. But like all other forms of education, atuition has to be paid. When you make money, thats great. When you start losing money, thats thetuition you pay to learn. And the market gets to determine the tuition, you dont get to determine it.



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Let me add something very important about trading and drawdowns. There is very little materialprinted or online for the beginning trader on the subject of drawdowns. This is very unfortunate,because drawdowns are a harsh reality of trading. As a result, beginning traders have falseexpectations of the trading environment. Drawdowns are a fact of trading, and how a trader deals withdrawdowns will determine the end game. It is like the word drawdown is a subject that is off limitsand seldom discussed. Given that every trader deals with drawdowns and asset volatility, it is sadthese subjects are not discussed with more transparency.

JACK SPARROW: Speaking of drawdowns, how many significant ones have you had over the pastthirty years?

PETER BRANDT: Its funny you should ask. I was just studying my drawdown history the other day.Ive had 15 drawdowns that exceeded 10 percent peak to trough to new highs. Many moredrawdowns in the 5 to 10 percent range. Some people measure drawdowns peak to trough and thatsfine. But what good is peak to trough if you never make a new peak? Youve got to measure the wholeround trip.

MIKE McDERMOTT: You dont know that the whole drawdown is complete until youve got a new

high.

PETER BRANDT: Exactly. You dont. And that is why youve got to go through the full cycle. And atfirst youre tempted and you probably do tweak things, even making major changes, and you find outafter the fact that the biggest mistake you can make is changing your trading style based on yourprevious trade or series of trades. Attempting to optimize a trading approach based on a recent seriesof trades is just idiotic to do.

Youve got to think not in terms of results of a trade, but principles. Not just did I make a mistake but,for example, Do I need to be more conscious of trend. If so how do I determine and measure trend.Do I determine it with a moving average or with some other means? A trader is just constantly playingwith these things.

But then eventually you go through a drawdown and you dont change a thing, trusting that losingstreaks come and go. But what I did find early on is that you do have to change the size of the betsyou put on the table. That is because I came to the conclusion early on, with the help from theNorthwestern University statistics department, that Id risk about 1 percent of my capital on a trade.

And in a drawdown you even start playing with that. For me I reduce my risk even further when I startto lose. If I get hit a few times, well, then its going to be three quarters of a percent, or half a percent,down to maybe a quarter of a percent on a trade. Then you start winning again and you build up thesize of the bet.

MIKE McDERMOTT: So your position size is based on the amount of risk that youre willing to take.

PETER BRANDT: My formula is really easy. I look at a chart for example corn is a market Iminvolved in right now. Im a breakout trader, and Ill tell you, over time I have had to learn over and overagain to resist the temptation: This thing is going to go up, I need to get in before it breaks out of thispattern. Ive lost so much money in trading ranges. So much money trying to jump ahead of a trend.

JACK SPARROW: Because you didnt wait for it to fully confirm.

PETER BRANDT: Exactly, I didnt wait for the breakout. So that has been a hard lesson for me tolearn. Intellectually I realize that the correct approach for me is to just stick an order in for a breakoutand have a computer-based alert system so that I can know when I get filled instead of having towatch the prices all the time.



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So I get in and I have a rule for where I set my stop. I want to set my stop based on the chart, notbased on a dollar amount. I want the stop to make technical sense. So I know my entry, I know wheremy exit is if I am wrong, I can figure out the dollar risk per contract, so only then can I calculate out myleverage.

So in corn it may be that Im risking 12 cents. Or maybe I can get away with risking 4 cents. I dont

want to force that number. I want the market to tell me, based on how it breaks out, where my stop isgoing to be. And that goes into determining my leverage.

MIKE McDERMOTT: And by leverage you mean number of contracts

PETER BRANDT: Yes, number of contracts. I refer to this as my size. And for me, I always think inunits and layers, layers per $100,000. One contract is a layer. Two contracts, two layers. Threecontracts, three layers. Per $100,000 unit of capital. And depending on how bold I am, how I feelabout the market, I might risk up to 1.5% on the trade. There are times where I have risked 3%. Butits rare that I do that.

I am amazed when I talk to novices who tell me they risk as much as 10% of their capital on a trade!

Well I did that too. Back in the late seventies I did that, and I can tell you it doesnt work! Risking 10%of capital on a trade is a well traveled road to ruin.

MIKE McDERMOTT (laughing): You dont usually talk to them three years later.

PETER BRANDT: No!Theyre not around. They dont last very long.

JACK SPARROW:As a chartist, how would you describe your ideal trading conditions?

PETER BRANDT: For me its Who cares what the label is on the chart what market it is. Ivealways thought my perfect world would be this: I would be blacked out from ever knowing anythingnever watching TV never having to drive through a cornfield in the summer never knowing anynews and some assistant would bring in charts in the morning, and the price scales would be

modified and the name of the commodity would never be on it. It would just be lines and graphs, and Iwould have to mark it up and say, Buy here, sell there, and the person would have to execute inaccordance with the leverage rules. And so they do the execution, and I never have to know about it.

Additionally, I would only be able to look at the charts for ten minutes each day and would not be ableto see what happened until the next ten minute period in preparation for the next trading session.

JACK SPARROW: So with your track record of 41.6% over 30 years, do you think you would havedone even better if you had shown the discipline to trade that way?

PETER BRANDT: I think I would have. I cant believe how much money I think Ive left on the tablebecause I get influenced by the name of the commodity traded, the price level itself, the emotional pullof the news of the day or other factors beyond the charts themselves and still do so to this day.

In a sense, my perfect trading environment is the antithesis of the environment the Mercenary Traderattempts to create. I would love trading solitude between me and the charts with no other influence.You guys seek to make sense of a tremendous amount of stimuli. I mean you guys have tradedenough to understand what it is like when you read something, you hear something, and all of asudden light bulbs go off.

In your approach to market speculation, its not a new thing you discover, but somebody shining aflashlight on something from a brand new angle and all of a sudden its not a two dimensional itembut a three dimensional item, or even a four dimensional item. And then you say to yourselves, A-ha!I see what this thing is. Now I understand what is driving price change.



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I love reading MercenaryTrader.com, but not for your unique macro-economic analysis or specifictrading maneuvers. Rather, you guys will hit upon some aspect of human factor or risk control, someother seemingly arcane subject, that really sets off the light bulb in my mind. As an example, yourecently introduced the concept of leakage. I had never thought about leakage in that way that Imleaking money, and Ive always been leaking money, and how do I stop the leakage. Because I canstop it! I can identify it and I can stop it.

But I had not thought about that concept the way you introduced it. I had thought about it as just, Thisis the process of trading and you take all of these decisions, and all of these maneuvers, and at theend of the year youve got to live with the bad and live with the good. But now you can break it downand say there is such a thing as leakage that exists. You can isolate it, and you can study it, and youcan find ways to address it. That for me was just a gigantic revelation, this leakage concept. I loved it.

So Im working on leakage, because I think it could be costing me between 1 and 1.5% of my assets amonth. And thats 15% a year! That is a huge amount of money.

JACK SPARROW: And then compounded its even more

PETER BRANDT: Well as a professional trader you dont look at it like that, because youre takingmoney out of your account to live on. But in a way it does compound, what remains in the account.

MIKE McDERMOTT: But if youre managing capital

PETER BRANDT: If youre managing capital, your leakage could be the difference between being anall-star and an also ran. You could be doing 10% a year and not recognized, or 25% a yearconsistently and become a top tier manager. So leakage really becomes important.

MIKE McDERMOTT: So where would you most easily be able to cut the leakage? Or where couldmost people look at it?



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Part III: Staying in the Game

In Part II of this Mercenary Vault series, we talked with Peter about mental milestones, win-loss ratios,and ideal trading environments.

In Part III we further discuss the topic of leakage the path of least regret the key to havingtriple-digit up years while cutting off down years and the vital importance of staying in the game.

MIKE McDERMOTT (continued from Part II): So where would you most easily be able to cut theleakage? Or where could most people look at it?

PETER BRANDT: I think it depends upon the trader and trading plan, because every case will bedifferent. We know that every trading approach, whether it is systematic or discretionary, can be in orout of sync with the markets to varying degrees. It is also possible for a discretionary trader to be outof sync with the trading plan. If a discretionary trader thoroughly understands his or her trading plan,then it is possible to identify leakage. I define leakage as areas where a discretionary trader fudges on

the plan. In my case, the grand total of all my fudges have resulted in a net loss over the years. Thatis how I would identify leakage in my case. I think its different for everybody.

JACK SPARROW: Can you give a more specific example of what that leakage would look like foryou?

PETER BRANDT: One example, a big one, would be trading decisions I might make during activemarket hours. A good rule for me is: Do not trade intraday. From the time I submit my orders, thatshould represent the sum total of my decision making. I should not change the orders, I should notsecond guess them. You know the concept of MIT orders, Market if touched. In my trading Ive hadCIC orders, Cancel if close.

So I put in an order and it becomes a CIC order. As the market gets there, I start to wonder, Do I

really want to sell this rally? And I go through that, and it is all about fighting these human emotions. Ialso know instinctively that worrying about the money, looking at my trading balance is the worst thingI can do. It is important for a trader to trade the markets, not his or her capital balance. I mean youhave to have capital to trade, but a focus on account balance and not the markets is a trap. I know it isa trap for me at times.

Sometimes it comes down to the course of least regret. Asking, Will I regret it more if I pull the orderand it turns out to be a perfect retest, giving me a double unit to ride back to the target or will I regretit more if I put the position on with a nice tight stop, and risk losing a little bit more, but not much, in thebig scheme of things, 30 basis points to make 400 basis points. That should be the basis of mydecision.

JACK SPARROW:Always referring to the present opportunity and the present moment in time.

PETER BRANDT: Yes, always attempting to determine the action that will represent my least regret.And Ive got to take that course of action. To do that as an individual you have to think forward, interms of your human psyche, how youre going to react to different situations. Whats going to be yourhuman emotion, how are you going to live with different courses of decisions and market outcomes.

Richard Dennis used to call it the upstream swim against human nature. Youre battling your fear,your greed, your hope all those human emotions are your challenge, especially as a discretionarytrader. Not that systematic traders dont go through emotional turmoil too. They do in some ways Ithink maybe they go through it more.



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So for a discretionary trader it comes down to one of two courses of action. In the first, a trader secondguesses too many trading decisions, fearing the risk of a drawdown, and ends up with no real tradingplan at all. In the second, a trader knows they will go through drawdowns, they live throughdrawdowns and keep following their rules, and it takes them through.

Earlier in my career when I was encountering a drawdown I would frequently override trades, and not

take trading signals, and then I realized, You know if I just hang with it and keep following my signals,the drawdown will resolve itself. It is important for an aspiring trader to stick with a plan throughout adrawdown and go through a full cycle.

JACK SPARROW: Let me ask about the signals in your trading approach. Have your signals ortrading decisions changed much over the years?

PETER BRANDT: For me my signaling hasnt changed much, although Im moving toward the pointwhere Im wanting longer term signals almost to where I can throw my daily charts away and justdeal with weekly charts. In my head Im sometimes thinking, If Im going to trade another 15 years,maybe I ought to throw the daily charts away and trade just on weekly charts.

JACK SPARROW:And to clarify, youre still talking in the neighborhood of a dozen trades a monthbased on your history.

PETER BRANDT: Yes, though maybe if I would go to just weekly charts the number of signals wouldcome down to 8 trades per month. And that would include patterns that are at first a fake out andrequire one additional attempt at re-entry.

My rule on big patterns is that they fool me once and thats fine then Ill let them fool me a secondtime and after that I dont care what a market does. Im not going to try the third time. Its fooled metwice, thats my rule, let somebody else have the money who has more guts to pile in than me but Imnot going to re-enter a pattern that has already fooled me twice.

So, anyway, Im thinking longer term chart patterns, move away from shorter term chart patterns.

Although when you get a good strong trend, sometimes those two week flags can really be profitable. Imean they can really, really add money to your account when you see them and they work. And Iwould be giving up these shorter-term pyramid signals if I go exclusively to weekly charts. But thatsfine I know that the more detached I become from the markets, the more I remove myself inemotional proximity from markets on a day to day basis, the more Im going to add to the bottom lineat the end.

JACK SPARROW:Are you pretty confident you can do even better than 41% over the next 10 or 15years?

PETER BRANDT: I think it depends. Proprietary money, I dont think that would be a problem if I amextremely disciplined. But naturally Im going to be more conservative if Im trading customer money.With the money of others I would not take as much leverage.

JACK SPARROW: Hypothetically, lets just phrase the question in terms of your own funds.

PETER BRANDT: If its proprietary money, then I dont see that there would be any problem. Becausewhen I consider my 41 percent, that includes 4 or 5 years when I was pretty much shut down andhardly trading. And those years are added into the performance calculation. During these years theperformance was something like up 2 percent, up 3 percent, down 1 percent I think it was 4 years inthe 1990s where I really didnt do much.

JACK SPARROW: So what does the distribution look like? Does that mean you had years where youwere up 150 percent, 200 percent, more?



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PETER BRANDT: Well I had 600 percent at the top side a 600 percent year in 1987.

JACK SPARROW: And what contributed to that?

PETER BRANDT: I really clocked the S&Ps on the long side, early in the year. After the 1987 crash Iwas really out of sync with the stock market for something like two years. I dont think I made money in

the stock market for a couple years after that. The crash really faked me out.

MIKE McDERMOTT (laughing): Obviously it didnt hurt you too bad.

PETER BRANDT: But then I also had a lot of 50 percent years and I also have had 4 losing years

JACK SPARROW:And your worst losing year was only minus

PETER BRANDT: Minus 5.8 percent I think it was.

JACK SPARROW: Lets talk about that for a minute. Because for anybody reading this interview, atrading methodology where your best year can be plus 600 percent, and your worst trading year canbe less than minus 6 percent thats beautiful. I mean its incredible. How would you explain to

readers your ability to have such incredible upside while still, your worst year would be somethingmost money managers would be ecstatic to have as their worst year.

PETER BRANDT: I think its really an easy explanation. Jack Sparrow, I think its actually a layupexplanation. Minimizing losses during the bad years happens when you attend to taking care of yourrisk. And then you allow good things to happen. All kinds of good things can happen if you control yourgame.

JACK SPARROW: You cut off the left side of your distribution.

PETER BRANDT: You cut off the left side of the distribution, you try to eliminate it. And then all kindsof interesting things can happen. And you just do not let the game get away from you.

How many sporting events do you watch where youre in the third quarter of the game, or the fourthquarter, and the announcer says, Such and such a team has just taken it to these other guys, but theother guys are still in the game. And how many of those games just turned in the last five minutes?

JACK SPARROW: Right.

PETER BRANDT: Because the dominating team outplayed the other team for most of the game, butthey couldnt put them away. They couldnt take them out. The team that was getting beat atouchdown down, a field goal down they never got out of the game.

I think in trading, the concept of not getting too far behind in the score is so significant. Its a matter ofrisk control. Aggressive risk control protocols. If you attend to your losses, pay attention to your losses,thats it. For example, I have a trading rule that I wont take a loser home on a Friday. I dont care how

I feel about the market, if on a Friday its a losing trade, Im gone. And I may get back in next week or Imay not.

I used to have a rule that I dont hold as tightly to now, but I sometimes wonder if I should go back to and thats not taking a losing trade home at all. Or not taking home a trade thats losing more than letssay, in you guys terms, 30 or 35 basis points.

JACK SPARROW: Its basically got to work during the first 48 hours or youre done with it.

PETER BRANDT: Taking a trade off at a target is an easy no-brainer. Although if the market keepsrunning you question yourself, but basically for me its pretty easy. I take the profit, I close the book,



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and I try to make it a habit not to look at that market again for another week or so. Its also easy totake a trade off at the loss point, where you set the risk.

For me the hardest part is what to do with a trade that has a profit and is still open. And I think most ofthe experimentation and tweaking and pondering and second guessing I do takes place with a tradethats somewhere between where I put it in and where I think it can go.



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Part IV: Maintaining the Center

In Part III of this Series, we learned about the path of least regret the value of long-term chartpatterns the key to triple-digit up years (and single-digit down years) and the vital importance ofstaying in the game.

In Part IV we hear more about protecting trade profits staying centered the characteristics of abig trade the truth about a traders biggest opponent in markets and the importance of removingthe emotional velcro from money and trading.

JACK SPARROW: Do you ever use trailing stops or anything of that nature?

PETER BRANDT: I just categorically do not like trailing stops. I think what ends up happening withtrailing stops, if trading from the long side for example, is that you end up selling where you shouldhave been buying. And that doesnt make sense to me.

JACK SPARROW: What about the concept of moving your stop closer based on logical chart points?

PETER BRANDT: Yes, I will do that. Im not going to give all of the profits in a trade back. I refer totrades when all of the profits are given back as popcorn trades in my recent book you watch thepopcorn kernel go up to the top of the kettle and then it goes right back down. I dont want to getcaught in popcorn trades. It just doesnt make sense to increase risk like that.

So Ive got some methods that Ive built into my trading over time for taking trades off, and I use thesemethods. I keep an excel spread sheet that constantly shows me how the three or four trademanagement approaches I could use would have done on each trade. One of these approaches Imonitor is the possibility of riding the trade all the way back to the starting gate a popcorn trade. Nomatter which trade management method I end up using, I have a tracking of how all the optionalapproaches are doing. Having this information keep me centered.

JACK SPARROW:And you also stay centered by communicating with other traders.

PETER BRANDT: Ive corresponded with a group of traders since 1980. I started with a one-pagetyped out sheet with graphs, and every Friday I would do it. The guys at Continental would want acopy, so Id make ten and put them on the front desk. Then Id end up making thirty copies as othertraders from the Board of Trade came around, and of course it eventually went to email. I havecontinued to do this over the years. I weekly send out a PDF document that comments on the trades Ihave done as well as the trades I am looking at for the future.

As part of this communications process, every year in early January, I do what I call the ten bestdressed list. I look back over the previous year, trying not to be biased on what I traded, and its

usually not ten charts but around that number. Sometimes eight, sometimes fifteen. But the idea isjust: Oh, that was a really good chart. That was really a classical example of what charting is allabout. It was a pattern, it was clear, it was big it was on the weekly chart, it was on the daily chart, itbroke out clean and ran the distance, never challenging the entry. My intent for this annual best-dressed list is to identify the best examples of classical charting from the previous year.

Doing this every year also brings me back to the center. It says this is what I need to do as a trader.Because without a clear reference point Im likely to drift. I dont want to drift. I want to bring myselfback to what I really need to be doing. And that is looking for those patterns that are going to be onthat list, because that is where my money is going to be made.

JACK SPARROW: So the best dressed list is like a north star for your profitability.



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PETER BRANDT: Yes, I would say that over the years about 50% or more of my net profits have beenfrom chart patterns that ended up on a best dressed list. It also goes back to controlling risk, andgetting to where my head is in the game. When my thinking is ahead of the game, then I can seesomething on the charts and say, Okay, this market just cant be set up any better. I know this chart isgoing to be on the best dressed list. Intuitively I just know it. Of course, there are times when myintuitive thinking proves to be wrong.

So because I focus on finding big chart patterns, I am in a position to identify situations like that, andthe chart breaks out a certain way, and the way it breaks out technically provides an opportunity forvery small risk (chart risk), and a number of other factors line up. Thats when I say, Back up thetruck. I even have a recording on my computer, the beep beep noise of the truck backing up. Isometimes send it to another trader I work with when I see something really good, I send him thelink to the beeping truck.

So I get the trade set up, and the truck is beeping, and I say Im not going to risk 50 basis points Imnot going to risk 100 basis points Im going to risk 200 basis points. Not only that, but because ofthe chart risk I can have four or five contracts per unit of capital, where typically I may only be tradingone contract per unit of capital

JACK SPARROW: Because youve got such a narrow band.

PETER BRANDT: Yes. Then we get a good strong day its a good strong bar that breaks out andholds the breakout the market may slightly back off for two or three days and volume just dries up tonothing then you get what Wyckoff called a hinge day, super-small range day a close in themiddle of the trading range where you find out there was no volume at all then I put some more on.

It is getting two or three trading situations like this that can give a trader a 100 percent or better year.And it has been market setups like this that have given me my best years. For me, I have not hadgreat trading years because I was right fifty or sixty percent of the time. I have had the really greatyears when I was able to exploit two or three trades where I was really able to lean into the trade withmy shoulder and push. Its those gems that really pay the dividend. I know that if Im going to finish

with better than a fifty percent return in a given year, it means I caught some really nice trades.

So, I always anticipate that around the next corner theres going to be another great trade. I alsoanticipate that each and every year will offer me at least 10 charts that can wear the title of being onthe best dressed list. And most years this happens, but not all years. I have to admit that there havebeen some years when either the really great trades did not happen, or they did happen and I missedthem. I have been in a drought in recent months for really good trades.

JACK SPARROW: Back to this idea of being centered what are some of the dangers that take youaway from the center?

PETER BRANDT: Bad spells come and go naturally in markets. What I dont want to do is add to bad

markets. In my way of trading I tend to look at markets a certain way, analyze markets in a certainway, and have certain ways I get in and get out. So its possible that the way I trade is out of sync withthe markets. But it is also possible that I am out of sync with the way that Im supposed to trade.

That is the quicksand I have to stay away from. I have to make sure I execute my game plan in theright way, which is just a matter of being disciplined, always questioning, Is this a trade I ought to bedoing, not reading anything into the chart that is not there. As Reminiscences of a Stock Operatortalks about, just reading the tape.

There are some trades that fall into a gray area. If you are a discretionary trader, which I am, you aregoing to have a certain number of trades that dont fit neatly into a box. What do you do with those?You have to pay attention to the trades you have on.



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The real opponent of a trader is himself. Not the markets, not other traders down the street, not somecommercial house my opponent in the market is Peter Brandt. Am I doing what I know I need to doto put myself in a position where I know I can either be down six percent or up a hundred.

MIKE McDERMOTT: Going back to something earlier you talked about having the license to flywhen you left the advertising agency, and following that, the point of critical mass where you felt you

had truly become a trader. During that build-up phase, you had Campbell Soup as a customer helpingto cover your bills. How did the financial stability of having that income affect the trading decision-making process?

PETER BRANDT: It was huge. The Campbell Soup income is what helped me become a consistentperformer. By consistent performer, I dont mean someone who is hitting their number every year. Tome, a consistent performer is someone who can stay in that acceptable minus-five to plus-100 rangeand do what they need to do.

Consistent performance isnt necessarily based on the dollars you make, but on the things you need todo to perform repeating and repeating what you think are your best practices. The goal is to be aconsistent performer and then let the money take care of itself.

This is a roundabout way to answer your question. But where the financial stability becomes importantis that, if I feel like I need to make $4,000 this month for living expenses, or $8,000 this month or whathave you that my tax bill is due or that I need to put a new furnace in my home or that my wifewants a new Subaru Outback all of a sudden Ive taken my trading capital and put dollar signs on itrelated to things that need to be bought. Ive attached emotion to my capital. In my mind it is soimportant not to have any emotional propping up of trading capital. Trading capital needs to be justnumbers, a way to keep score.

The subject of money has emotion. Money has as much emotion for a lot of people as do their wifeand their kids and their parents. If you want to get people emotional, bring up the subject of money. Soif youre not just cold-hearted and Im not cold-hearted then I have to find ways to move myselfaway from all the emotional stuff that sticks to money. Money just seems to have emotion-attracting

velcro on it. I have to find ways to cut the velcro off. I have to view my capital as just part of the game.The degree to which I am emotional about my capital can be the degree to which I start tradingdefensively. And defensive trading usually goes in the wrong direction.

I also even need to detach myself from what Im trading. Im not trading corn, Im trading price. It isalso important for me to detach myself from price itself. It shouldnt matter if I am buying beans atfifteen bucks or six bucks. All that matters is, are beans going to go up? If so, who cares where theprice level is. Some of my worst trades have been talking myself into buying something that wascheap.

I do not want my trading capital to be assigned in such a way that: This chunk has to go for rent, thischunk has to go for a car, this chunk has to go for education. I want to get rid of all that, which is why

it was so important to have the Campbell Soup revenue at that stage in my career, or to have had thatback-up game plan of returning to advertising, because then I dont have to worry about needing touse trading profits for living expenses.



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Part V: The Toughest Trade

In Part IV of this series, we learned about protecting profits, staying centered, the characteristics of abig trade, and who a traders biggest opponent is in markets.

In Part V we hear about Peters experiences as a light aircraft pilot his most interesting trade histoughest (most emotional) trade and key principles to avoid compound errors (making it back fromthe wilderness).

JACK SPARROW: Speaking of license to fly, youve mentioned that you are a pilot.

PETER BRANDT: Ive owned three aircraft in my life. I started with a 1951 Piper Tri-Pacer, which wasthe first Piper that had tricycle gear. It was a fabric aircraft, and had a sink rate of a lead weight, and ahigh speed for touchdown. It was a lightweight plane, a four-seater, and the thing was just fast. It hada speed of about 135 knots.

I bought the Piper with my wifes cousin, who was an Air Force pilot. We both lived in Chicago and hewas based out of Michigan, so he needed a plane to fly over to his base. So he said, Want to learnhow to fly? You can buy half of the plane. So I learned how to fly that way. Then I bought a Cessna172, and then a Cessna 182. I wound up selling the Cessna 182 but I should have kept it. Usedaircraft just keep going up in value every year.

Flying was expensive, but it was great for me because I wrote most of it off. When I moved my familyto northern Minnesota I would fly down to Chicago, and I could land at Miggs Field right in downtownChicago. I could literally walk to the Board of Trade from Miggs Field. It was a ten-block walk.

In Minnesota we lived on a lake, and I had a neighbor with a snowplow. He would plow an airstrip forme on the lake. In the winter time I would take an ice auger and auger down my straps, so I couldstrap it down and keep the plane right on the ice. I didnt have floats on it, but I had floats on the 172.

MIKE McDERMOTT: Can you put floats on it?

PETER BRANDT: Oh yes. I wound up selling it in Alaska. It had what is called a STOL kit, whichstands for Slow Take-Off and Landing. It gave you an extra curvature off the back of the wing.

If it was perfectly still and there was no wind, winter-time, early morning or late evening, no thermals, Iwould see how slow I could be going at the point of touchdown. I used to do that just for fun. I couldget it down to 38 or 39 knots. We would take it out and see if we could land it with just the trim tabs.

JACK SPARROW: So did you find any parallels between flying and trading?

PETER BRANDT: No, I forgot about trading when I was flying.

JACK SPARROW: Just a beautiful escape.

PETER BRANDT:A marvelous escape. I clocked a lot of hours, flying just about every day. We livedup in Nisswa, Minnesota, and I had the option of landing on the lake in winter time which reallyscared the ice fishermen, because when you landed on the lake the ice would crack. Its thick enoughthat it was not going to break, but it does crack. And these ice fisherman would get so mad at me.

Then we had a grass strip which was five miles away, and a really nice airport with an 8,200 foot mainrunway that was 25 miles away. I kept the plane in a hangar there.

JACK SPARROW: Tell us about the most interesting trade youve ever had.



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PETER BRANDT: It was 9/11, when the first tower was hit. The futures were operating in one of thebuildings within the World Trade complex. After the first tower was hit, the trading was halted and thenit briefly reopened, and I traded gold. I have a time-stamped order after the first tower was hit. Just theidea of trading gold, considering what was happening, seems to me a fascinating thing.

When gold re-opened six days later I think it was $10 or more higher which was a big move at the

time and I took my profit and walked away from the trade. I considered myself lucky, and the reasonI walked away from the trade is because I didnt like the idea of making money on a lot of peoplessuffering. I decided I wouldnt sit and exploit the market any further, and I cant even remember whatthe market did after that.

But I remember taking my profit thinking, Ive just made money on the lives of a lot of people. Ill takemy profits and Ill thank the market and walk away. So that was probably my most interesting tradeever.

JACK SPARROW: What was your toughest trade ever?

PETER BRANDT: The toughest trade ever was crude oil. It was the first Iraq war, January 16, 1991

when the bombing started. I was long crude when the bombing started the evening of January 16 and I was thinking, Man, this is going to be sweet. Crude oil was trading a few bucks higher in theafter market, but by the time the pit trading started the next day, the trade opened something like 700points against me. Prices closed on January 16 somewhere in the area of $30 per barrel. Then thewar started, and prices opened in the pit on Feb. 17 about 700 points lower.

I remember thinking the night the bombing started, This is going to be payday. Prices were tradingthat evening on the curb $3 or $4 higher right after the bombing. But by the time U.S. markets opened,crude had in effect declined ten bucks off the previous evenings curb price.

JACK SPARROW: Was that your most emotional trade?

PETER BRANDT: That was just the hardest trade my biggest, quickest single loss. I dont think the

size was very big, it was just a trade I thought Id be making four or five thousand dollars per contracton, and I ended up limping out with a six or seven thousand dollar per contract loss. Oftentimes theemotional hit from a trade is tied to an earlier expectation for the trade.

JACK SPARROW:As you said earlier, you know there will be ten great patterns each year and theyear after that. Does that help put those kind of setbacks in perspective, or the times when you feelout in the wilderness?

PETER BRANDT: There are things that stand out as principles I really need to hold to. One of them isthat I need to forgive myself very quickly when I do something stupid. I can sit and hold previousmistakes over my head, and mistakes will compound if I do that. You have to be able to clear yourconscience of the mistake you just made. If you beat yourself up and hold onto something, youregoing to make another error.

It is inevitable that one error will lead to another error in this business. So you have to flatten yourselfout emotionally. And until you do, you just have to go back to small positions until you can buildleverage back up. Ive been there before, and Ill be there again. In fact, I am there right now as we arespeaking.

But youve got to have confidence in yourself, and in what youve done, in order to come out of thatwilderness. Otherwise youll change the way you trade and then you wont have a clue where youare. Because what if you change the way you trade, and it works for a month or two, but then the newway of trading goes into the wilderness too. What do you do then?



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The only way for a novice trader to make it as a trader is to make a lot of mistakes, many mistakesmore than once, until they figure it out and say, Okay, this is the way Im going to trade. And it maynot be the way other traders do it. In fact, it really cannot be exactly how another trader trades,although it is certainly possible to admire how other traders do it. I can look at how another tradertrades and say, Thats a thing of beauty. That is gorgeous how that guy does it. But its not the way Ido it. You live and die with your own way. That is what every professional trader does. Thats what youMercenary guys do.

JACK SPARROW: Right its about synthesizing knowledge and great ideas, and then letting yourown style emerge.

PETER BRANDT: You know, I would love to be your age and know as much as you guys know. Theopportunities are going to come your way. Youll just stumble upon them. Like the Commodities Corpopportunity that came to me I wasnt looking for that when it came. Homestake Mining, I wasntexpecting that things will just come your way, and I think youll recognize them.

MIKE MCDERMOTT: Weve got our eyes open

PETER BRANDT: I was 35 years old when my Swiss Franc trade happened. It all really started for mewhen I was 35. I think you guys will have an opportunity to manage a billion dollars, if you want to. Orif you want to, keep it at $200 million and have fun and keep it small, without the headache of havingto hire an H.R. director.

MIKE MCDERMOTT: That will be a fun decision to make!

PETER BRANDT: I think it will happen. Youll be able to manage a large sum of money, if thats whatyou choose to do. You do it smart, youre astute, you have a good approach and good riskmanagement keep doing those things and youre going to get noticed by people who can write outlarge checks.



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Part VI: Commodities Corp

In Part V of this series, we learned about Peters experiences as a light aircraft pilot, his mostinteresting trade, and his toughest, most emotional trade along with key principles for making itback from the wilderness.

In Part VI we hear about Peters experience running money for Commodities Corp., the MountOlympus of institutions that brought forth so many trading legends from its fold. We also hear aboutPeters experience evaluating other traders, and methods for building excellent composite

performance. (Hint: Focus on the risk.)

JACK SPARROW: Youve already mentioned the Edwards and Magee book was a major influence inthe early years. Who are some of the others who have really influenced you over the years, ormemorably shaped your landscape as a trader?

PETER BRANDT: Before Edwards and Magee there was Richard W. Schabacker, who did the heavy

lifting that led to the Edwards and Magee book. Schbacker had penned a manuscript in the 1930s.That manuscript had not been printed when I became a trader, but I obtained a photocopy and couldread firsthand where the Edwards and Magee material originated. So Schabacker influenced me a lot.From a philosophical point of view, talking about the nature of trading and speculation, JesseLivermore was a really big influence.

Then, when I was at the Board of Trade, there was a Cargill trader named Dan Markey who was justbrilliant. His focus was trying to find the seasonal high and the seasonal low in the grains. And hewould only make two calls a year! That was an influence from the standpoint that you dont have to beinvolved in the market every day. You can try to look at the market from the standpoint of an annualhigh or an annual low, which could then set you on the path as to how you interpret shorter termsignals as you get them.

So Markey was a big influence, and I think Richard Donchian was the other big influence

JACK SPARROW: The father of trend following.

PETER BRANDT: Right, the father of trend following, and really the father of the whole managedfutures industry. He played a very big role in the growth of futures. He is truly a legend in the futuresbusiness. Our industry owes much to him in many regards. He was a researcher first and foremost,and studied and wrote about many things. He wrote about a bull market needing to make a new highevery X days to remain healthy. He also created something called the weekend rule somethingthat I have incorporated into my own trading.

Ive also really enjoyed everything I can read about the markets that speaks to the human battle that it

really is. The battle that goes on in the human soul that fight against fear and greed and naturalinclinations. When I traded money for Commodities Corp, I had the chance to talk with a lot ofinteresting people good traders who didnt necessarily trade the same way, but again wereinterested in talking about the philosophical side of trading. And mostly the risk side of it.

Mostly though, Ive just been a grinder figuring out my own way in the markets. I was never anunderstudy to anybody, so to speak, other than perhaps Edwards and Magee. I have really justdeveloped my own approach as time has gone on.

JACK SPARROW: Lets talk about Commodities Corp., which has a Mount Olympus type reputationin the history of trading given how many world-class money managers cut their teeth with them. Canyou tell us about your history with Commodities Corp and your trading experiences there?



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PETER BRANDT: I dont recall the exact origins of the connection. But I remember going to Princeton,New Jersey where they were based, flying into the Newark Airport where they had a limousine waitingfor me. I had never been to Princeton or much outside of Newark what a gorgeous state. I think itwas 1985 or 86.

JACK SPARROW: What made Commodities Corp invite you into their fold?

PETER BRANDT: I think they had heard about me through my writing. I have always written about myown trading, placing my thoughts on the market into the public domain. Either one of their traders orsomeone in their management structure decided they liked my ideas.

So I was invited to do an interview with a number of their people in Princeton. The interview focusedon how well I knew my own trading approach. That was what the interview was really about: Is this aguy who knows what hes doing, not from the standpoint of whether hell be an outstanding profitcontributor, but does he know what hes doing from the standpoint of how he will react to differentsituations in the market.

They showed me their trading rooms, and they had a lot of people there, but there were also a lot of

traders who didnt trade on the premises. They traded from wherever they lived, but they were stillCommodities Corp traders, and many had offices there. I remember I was shocked at how many chartbooks were on the desks. Many of the Commodites Corp guys were chartists.

JACK SPARROW:And that influence was from Michael Marcus and others who were very profitableusing charts in their trading?

PETER BRANDT: Exactly. Many of these traders were classical chartists. We were singing the samesong head and shoulders, retracements, breakouts and so on.

JACK SPARROW: So how did they set you up?

PETER BRANDT: The way that they did it back then was, if they liked you and and thought you had

the potential to be part of their stable of traders, they would allocate their own proprietary funds to you.I think it started out at around a hundred thousand to half a million dollars, and they would watch youvery closely.

Then there were benchmarks you would have to hit over a two or three year period. I dont rememberthe numbers exactly, but as I recall the two-year average annual rate of return needed to besomething like 24 percent. If a trader didnt hit the two-year performance goal, then the evaluation wasextended to a third year with a different compounded ROR target.

Then they looked at retracements and drawdowns, and at any given point you were not allowed tohave a drawdown of more than 29 percent, I believe it was. They ran a 29-day moving average onyour equity.

JACK SPARROW: They traded their traders.

PETER BRANDT: Thats right, they did. Plus you had to call in every day when you wanted to tradesomething, because they had a desk that tracked what their position limits were. They didnt want toexceed their limits, and they were usually in a reportable position to the CFTC. I dont ever remembernot getting permission to trade the markets I wanted to trade.

They put you through what was called a Trader Evaluation Program, and if you hit your numbers inthis first cycle you went through the second cycle. After the first cycle they upped the ante and youwould get funded for more. After the subsequent cycle, at that point you were no longer in the TEPprogram you had graduated to being a full Commodities Corp. trader.



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I never considered myself in the same light as some of the famous guys like Paul Tudor Jones. I wasjust a trader from northern Minnesota. But I did trade a lot of their money then and retained arelationship with them.

They were wonderful to work with, though you had to put up the numbers. If you didnt put up thenumbers, they wouldnt necessarily fire you, but you would go through a probationary period. They

really had the whole thing thought through in advance, well before anyone else did in the same way.

JACK SPARROW: Do you remember your numbers during the early years trading funds forCommodities Corp?:

PETER BRANDT:Actually I do. In fact, I recently saw the file when I was cleaning out a closet. I didabout 13% the first year, 31% the second year and 24% the third year. My compounded ROR the firstthree years was just north of 20%.

JACK SPARROW: You are now in a position of evaluating other traders yourself, is that correct?

PETER BRANDT: I am, yes. I really believe that traders not buy and hold investors, but good traders are going to be incredibly valuable in the years ahead. I also think that managed futures are right onthe verge of exploding as an asset class. Managed futures are very underrepresented in the portfoliosof most investors. I would suggest to most anybody who is retired, over 50, or has otherwiseaccumulated a large sum of money, to consider a diversified allocation to managed futures or hedgefunds in their portfolio. My own personal goal is to move 80 percent of my retirement IRA-type assetsinto managed futures managed by traders other than myself.

JACK SPARROW: What are some of the characteristics that you look for in a good trader?

PETER BRANDT: When analyzing data for investing in a trading program, most people put too muchfocus on the upside performance side of the equation. They look at whether the trader made 30percent last year or 15 percent and so on, and create their list based on rate of return. As a tradermyself I understand how important performance is. But if you dont have strong risk management

protocols, you will never put yourself in position to have a long string of good years.

So I went a different way. I acquired data on Commodity Trading Advisors, or CTAs, from Barclays andother sources and spent three months developing an algorithm and a set of filters primarily based onrisk. The traders I wanted didnt really need spectacular performance, or even a year above 20percent. But what they had to do was demonstrate an extraordinary ability to manage risk. Thealgorithm looked at risk-adjusted performance and the ratio of worst drawdowns to average rate ofreturn the average annual worst drawdown versus average annual rates of return, duration ofdrawdowns, and so on.

There was also a diversity component, with points that could be assigned for slightly different tradingapproaches or time horizons. Some of the candidates are scalpers; some are position traders; someare trading forex; one of the finalists on my lists is even a day trader of the S&P 400 contract.

Finally I took a look at what happened to traders when they saw a big jump in money undermanagement. Did their performance take a hit, or did it hold steady? For most everybody I think thereis that point where performance reaches a peak based on assets under management. Traders gettapped out on how much they can manage, and then performance goes flat, or even heads off a cliff.

JACK SPARROW: Thats when they start managing for fees rather than real performance.

PETER BRANDT: Yes, that can be the case. They start trading not to lose, as opposed to trading towin. So there were a lot of things we looked at, a sort of rat maze that we pushed the performancedata of all these traders through. Then we took a harder look at the finalists: Did they have anyregulatory complaints were there any oustanding issues that had to be described in their



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performance for instance there was one trader with a very big drawdown, but it was eight years ago.So we went around and talked to these people: Tell me about that 37-percent drawdown you had in2003, what was that all about.

Going through this process, we wound up with a group of ten or so traders that was just a great group.And what is remarkable about this group is how they actually do as a portfolio once you take a look at

composite performance: What would have happened had I given these people funding five, six, sevenyears ago.

I know that past performance is no indication of future returns, but you have to go on something. Youcant just pick straws or throw a dart. The reality is that past performance is an indication of how atrader trades. It doesnt indicate that a trader is going to repeat and repeat, but its the best thing youhave to go on.

JACK SPARROW: Were there any measures you particularly relied on?

PETER BRANDT: Generally speaking we took a look at something called the Calmar Ratio, which isan acronym for California Managed Accounts Reports. The Calmar Ratio divides average annual

rate of return for 36 months by maximum drawdown over 36 months, recalculated on a monthly basis.We made some modifications to the Calmar Ratio in our analysis of traders.

The traders we liked had Calmar Ratios from 1.5 to 3.0, meaning that, at a ratio of 2.0, an averagerate of return was double a worst drawdown.

JACK SPARROW: So just to put that in laymans terms: If you have a Calmar Ratio of 2.0, and anaverage annual return of 20%, that means your worst drawdown would have been 10%.

PETER BRANDT: That is correct. And the traders were all in that range, but when we blended themtogether something interesting happened. We didnt try to negatively correlate performance, and totalperformance was a straightforward calculation. There was no change in the composite returns of thegroup. But the BIG change was in composite drawdowns and magnitude of drawdowns. Those

changed dramatically, where all of a sudden the worst drawdowns of the group as a combinedportfolio dropped into the 2 to 3 percent range and in 2010 there were no drawdowns at all, whenmeasured on a month to month basis.

JACK SPARROW:And that is because the traders in the group were so good, someone was alwaysperforming. When one was temporarily behind, another was always stepping up.

PETER BRANDT: Exactly. They had their drawdowns at different points in time. So while the netreturns were still there, the average drawdowns leveled off. And not only that, but the compositelength of peak-to-valley-to-new-peak drawdowns shortened dramatically. While the average for eachindividual trader was around ten months for peak-to-valley-to-new-peak ranging from six months to27 months the longest drawdown for the group as a portfolio was only three months.

I think a focus on risk-adjusted performance is a different way, an exciting way, of looking atcombinations of traders. It is a concept that has great merit for institutions and large investors. Asmentioned earlier, most people in managed futures have mainly looked at the performance side, notthe risk side or the drawdown side.

For me, the bottom line of it all is not about identifying traders who have had stellar returns. Thebottom line is about finding traders who have managed their capital well, and have not gotten whippedtoo bad when things have been rough.

JACK SPARROW:And of course, having both (stellar returns and excellent risk management) isnt aproblem either!



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PETER BRANDT: Definitely not a problem. But first and foremost, you have to guard your chips. Yourcapital is like inventory for the retail business. If you are a retailer with no inventory, when peoplecome into your store they wont buy anything. There wont be anything on the shelves. So you have topay very close attention to your risk.



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Part VII: Debunking the Sharpe Ratio

In Part VI of this series, we heard about Peters experiences running money for Commodities Corp, aswell as his methods for evaluating other traders and creating superior composite performance.

In Part VII we uncover the serious flaws in the Sharpe Ratio, a popular performance metric, and talkabout why it is so problematic. We also discuss the difference between managed futures and mutualfunds, advice for new traders, and more on the upstream swim against human nature.

JACK SPARROW: On the subject of evaluating trader performance: There is a very popular methodknown as the Sharpe Ratio. We know from previous discussions that youre not a big fan of thatmeasure.

PETER BRANDT: I hate the Sharpe Ratio. I think it is not only worthless for evaluating futures traders,but it actually can be detrimental to the search.

JACK SPARROW: Given that the Sharpe Ratio is so popular, how about sharing as to why you dislikeit so much.

PETER BRANDT: The Sharpe Ratio gives the highest marks to traders who basically have the samerate of return each and every month. And so, if a trader does 24% in a year, the way to get a greatSharpe Ratio would be to spread that out at 2% a month. The Sharpe Ratio will reward a trader forthat because he has very little difference from month to month. Its a measure of standard deviationfrom the norm. People who use the Sharpe Ratio calculate an average and then look at the deviationsfrom that. And a trader gets penalized by the Sharpe Ratio for not having consistently equal months.

But for me theres no difference between, say, a trader that does 2% every month, and a trader thatdoes 12% in two months, but doesnt do anything in the other ten. The latter to me is a perfectlyacceptable way to trade, and in some ways I even like that trading result better.

JACK SPARROW:And the trader who has steady eddie returns of the same size every month thats kind of the Bernie Madoff profile, or someone who is collecting naked options premiums. Thatartificial level of stability is a little frightening.

PETER BRANDT: Exactly. You wonder where the performance is coming from, and you have to take alook at how they are trading. If there are any question marks as to where the performance is comingfrom like if they are selling options you have a chance for a disaster year, where traders did greatfor a number of years but then didnt account for a big event. And the big event grabs them.

Whereas the guy who does minus one, plus one and so on, and then has a really big month that tome is a trader who really knows how to manage risk and exploit opportunities when they come, and in

the meanwhile hes waiting in the weeds. The Sharpe Ratio will brutalize that trader!JACK SPARROW: Because the Sharpe Ratio fails to distinguish between upside volatility anddownside volatility, and thus penalizes upside volatility in periods of true opportunity.

PETER BRANDT: Exactly upside volatility is penalized if it skews away from the norm. It isinteresting to me that the marketing people and the packagers of CTAs pay so much attention to aratio that I think is not a good ratio to follow.

JACK SPARROW: Why do you think the Sharpe Ratio is popular? Would you agree it is becausepeople crave stability to a greater degree than is healthy? That they arent willing to embrace theuneven nature of the market process in generating returns?



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PETER BRANDT: When volatility is low its easier to package and market a track record. You can puta prettier bow around it. And much of that marketing is done by people who have never really had theirnet worth on the line in markets. They dont know what that feels like.

I know there are traders in that business as well, so I dont want to blanket criticize the business ofpackaging traders into multi-trader funds on the basis of Sharpe Ratios. I dont want to cast that wide

of a net across this corner of the industry. But in general, I think the concept of relying on the SharpeRatio to evaluate trading talent is not the way to go.

Instead, I believe the way to go is to focus on traders who have had good performance, but also havedemonstrated a tremendous ability to manage risk during their tough periods. I want to identify traderswho have had shallow drawdowns and a clear ability to come out of those drawdowns sometimesquickly, sometimes not so quickly, but they come out of them. And as long as they stay alive, goodtraders will find a way to make money again. So my focus is on good traders who really know how tomanage risk.

Combining traders that have solid performance with extremely controlled drawdowns at the end of theday is going to provide double digit rates of return sometimes very high double digit rates of return

with low asset volatility overall. And when there is a bad year it is not going to be a crippling year.

By comparison, take a look at the stock market. Imagine running a Calmar Ratio on the S&P 500, withor without dividends. There is no stability in the stock market whatsoever! On the basis of the CalmarRatio, the stock market is an example of asset volatility on steroids.

JACK SPARROW: It has always amused me how the futures industry has been portrayed as this highvolatility wild west, whereas to me, being in mutual funds has always been the true wild west. Mutualfunds have always struck me as the equivalent of a roller coaster ride in Vegas, with no risk controlwhatsoever.

PETER BRANDT: Compare wealth managers in the stock market to good commodity traders in thewild west of futures markets as you say. The stability and solid risk management is taking place in

the futures markets.

JACK SPARROW: It seems like the extra risk and leverage available in commodity markets hasconvinced the managed futures industry to take stability and risk management seriously, whereas alltoo many stock managers come from the perspective of stocks will always come back and dontmuch worry about risk at all. As investors with an artificial sense of safety because stocks alwaysgo up in the long run the stop loss and other risk management tools are alien concepts to them.

PETER BRANDT: Yes, and there is one more factor that adds to that to some degree. Thebackground of futures managers versus the background of big stock portfolio managers is verydifferent. The futures markets have never had an MBA fast track, where you come out of Harvard withyour MBA, get a good job on Wall Street, and three years later you are managing a billion dollars.

That doesnt happen in the futures industry. Futures managers by and large started out withproprietary capital. They started trading with their own bucks! They learned risk by trading verytransparent markets and they knew day by day and minute by minute how they were doing. They weretaking risks with their own money. They learned risk management because of that.

In futures its a group of people who tend to be Mercenaries, like you guys. Guerrilla warfare traderswho never looked for the Air Force to back them up.

JACK SPARROW: You have had tremendous success over the years by any measure, and youvealso shared how the traders greatest battle is with himself. What would you say are some of your ownpersonality characteristics that made you successful as a trader?



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PETER BRANDT: First of all, persistence. I just dont give up. Also, from the beginning I was a little bitrisk averse. Looking back, some of the trades I made dont appear to fit that profile. On the surfacethey looked like risky trades. But in my heart I knew the situation at the time, and I didnt feel they werevery risky trades.

So I have been somewhat risk averse. I havent been a wild gunslinger: Made a million, lost a million

and so on. I always wanted to have a bad year come out as a breakeven year, and have a good yearbe one with really great performance.

JACK SPARROW:And even though you are risk averse, you have always had the courage to go forthe gusto and book those triple-digit gainer years when the opportunity was right.

PETER BRANDT: Yes. And going back to personality, they have those aptitude tests that measureyour strengths and weaknesses and tell you what your career should have been: Dancer, schoolteacher or what have you. Whenever I have taken those tests, engineer scored very high, to thepoint that I sometimes wonder if I should have been an engineer.

I think my mind tends to work very sequentially. I want to know how my trading plan is put together:

Where every nut is, where every bolt is, what pieces move, what pieces dont for me it has alwaysbeen very important to have a tremendous comprehension of what I was doing in the markets.

Ill be the first to say that I do not think my trading plan is a tremendous trading plan, in fact, I think it isprobably very average. There are

77951400 Interview Peter Brandt

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